News & Events

Are Credit Unions Superheroes?

From The New York Times
By Nancy Folbre
(Original Publication: July 27, 2009)

Credit unions always seemed like Dullsville to me. I never bothered to check out the interest rates, much less the governance structure of credit unions I was eligible to join.

But in the wake of the financial crisis, they began to look more like Clark Kent, who turned out to be Superman. When the big American banks started sucking up to funds from the Troubled Asset Relief Program, or TARP, credit unions, with many fewer subprime mortgages on their balance sheets, started looking really good.

In many countries, the worst bullets of the crisis seemed to bounce off credit unions’ chests. Now, they are on a roll, bolstered not only by their subversively conservative lending practices but also by a loss of public trust in larger financial institutions.

Credit unions are nonprofit enterprises that aim to serve individuals brought together by some “common bond” of association, whether institutional (e.g. a common employer) or geographic (a local community). Most are relatively small-scale, though many have expanded their scope in recent years. In electing management, each member wields one vote.

This structure fundamentally differs from that of banks, whose goal is to maximize profit. Most banks are much larger institutions (especially after a wave of mergers in recent years) and they dominate the industry. Today, Wells Fargo, JPMorgan Chase and Bank of America alone control more than 30 percent of the nation’s deposits. In electing management, owners wield votes proportionate to their number of shares.

These differences in incentives and governance structure should make credit unions less likely than banks to pursue excessively risky investments.

Because American credit unions don’t need to generate profits, and also because they are not required pay federal and state income taxes, they typically offer higher interest rates to savers and charge lower rates to borrowers than banks do.

However, they don’t spend much money advertising these benefits. Elizabeth Warren, current chairwoman of Congress’s Troubled Asset Relief Program oversight panel, advocates a financial protection agency that could make it easier for consumers to shop around.

I looked for but couldn’t find any systematic analysis of exactly how credit unions have fared over the last year compared with banks of comparable size. They are clearly not immune to the kryptonite of financial crisis. Some major corporate credit unions in the United States, serving as intermediaries between local credit unions and the larger financial system, have gone belly-up.

The American Bankers Association worries that tax advantages and other regulatory policies give credit unions an unfair competitive advantage. Apparently banks are required to publicly divulge more details than credit unions when they fail.

I’d like to see financial economists devote more attention to the impact of incentives, governance and regulation. Meanwhile, informal information-gathering can also pay off. While working on this blog post, I called my local credit union, where a very nice person, rather than a recording, immediately answered the phone.

This person gave me a very clear explanation of how I could open a checking account paying an annual interest rate of 4.09 percent if I agreed to some cost-saving measures like regularly using a debit card, setting up an automatic payroll deposit, and receiving only electronic statements.

This is more than 10 times better than what I was getting in my Bank of America checking or savings accounts, not even counting the very-nice-person part. Some small banks offer similar deals, and the benefits are often capped.